The Full Guide to Property Mortgages Investments in Europe PART I

Property Mortgage

In Real Estate investing, the most common investment property financing option is taking a conventional mortgage loan.

What is a mortgage?

A mortgage is a legal agreement between a creditor/ lender and an entity in need of a loan to purchase a Real Estate property.
The premises of the agreement is that the funds are being lent at interest, in exchange for taking the title of the debtor’s property, with the understanding that the title transfer will be voided once the full debt has been repaid. The loan is basically secured against the property, meaning that if the debtor falls behind in his payments, the creditor can repossess the property and sell it to cover the debt. 

Why is it so popular?

The possibility to leverage real estate to build wealth makes Real Estate a field many want to invest in, but it requires a capital not everybody owns.

For them, there is the option of taking a loan that requires only a smaller starting capital to make a down payment in order to secure the said loan for the full amount needed.

The typical down payment required for a home purchase is 20%; for an investment property, the lender may require up to 30%.

Considering that with only approximately 25% of the needed funds at your disposal (called a deposit) you can actually acquire equity in a property, a mortgage is an attractive option to enter in such a lucrative niche.

Beyond the original 25% down payment needed, the remaining funds needed will be in form of a debt you owe to a lender (The money you borrow is called the capital); this loan will need to be paid back in full with interest before the mortgage agreement expires.

You should always keep in mind that the rate of the mortgage is not influenced by the fluctuation in the value of the property, but it does affect your equity: meaning that if the property gains in value, your equity increases while the value of the loan stays the same; but if the property loses in value, it impacts your equity but not the value of your debt: it is called negative equity – when the amount you owe ends up being greater than the value of the property.

As long as you make educated investment decisions, your property investment could build for you a steady source of wealth.

The size of your down payment matters

When buying a property, you will need to make a downpayment (deposit) which goes towards the cost of the property you’re buying.

The higher is the amount of the deposit, the lower your interest rate could be.

Loan to Value or LTV is an important terminology to understand: it compares the size of your loan to the home’s value

For example, with a £30,000 deposit on a £300,000 property, the deposit is 10% of the price of the property, and the mortgage is secured against this remaining 90% ( LTV) 

The LTV impacts directly the interest rate, as the lower the LTV is the lower is the risk of the lender as he granted a smaller loan.

The cheapest mortgage rates are usually available for people with a 60% LTV (40% Deposit).

Finding the money to enjoy the perks of Real Estate investing shouldn’t be an obstacle if you know your options. 

As you’re comparing the different loans for investment properties, keep in mind that the best option for you will depend on your personal financial standing, the type of income property you want to buy, the purpose of the acquisition, and your goals as a Real Estate property investor.

There are different kinds of Loans

Conventional Mortgage

Interest-only mortgage

With interest-only mortgages, you don’t actually pay off any of the mortgage itself (capital), you pay only the interest on the loan
After the interest-only term has expired, some borrowers may choose to refinance their loan, which can include potentially lower interest payments on the principal, while other borrowers may choose to sell the property to pay off the loan, the third option is to pay the principal portion as a one-time lump sum payment when the loan is due, using the savings you were able to accumulate by not paying the principal all those years.

Advantages:

Such a Mortgage is typically allocated for 5, 7, or 10 years.
During that period the monthly installments are only covering the interest and are therefore minimal, allowing you to leverage the property value while saving towards the repayment of the principal. At the end of the term, you can consider taking another mortgage while the property value has already increased and proven as a good investment, or you can decide to sell and use the added value upon the downpayment of a new property.

Disadvantage:

  1. At the end of your agreement, you have to pay the total principal amount in full. 
  2. The monthly payment will be lower for the first few years, but the constant payments won’t even make a dent in the loan itself.
    You may find yourself being left with a huge debt at the end of the term and no way of repaying it, especially if you are in a negative equity situation – even if temporarily.
  3. You will have to consider a separate plan for how you will repay the original loan at the end of the mortgage term.

For refinancing, the LTV ratio (which will be used by lenders to set your mortgage rate and terms) is based on the newly appraised value instead of the purchase price. 

Repayment mortgage (Also called capital and interest mortgages)

With a repayment mortgage, you’ll monthly pay back the money you’ve borrowed for an agreed period of time (the term) until you paid back both the loan itself and the interest.
This means that the full balance of your mortgage will get smaller and smaller every month, for as long as you keep up the repayments; at the end of the term (usually 25 years) you’ll be released from any contract and you will be the sole owner of the property.

Fixed-rate mortgage

‘Rate’ refers to the interest rate.

Your lender guarantees the interest you’re charged will stay the same for a set amount of time (the initial period of your loan), typically between 1 to 10 years.

When the initial period reaches an end, you’ll be transferred to the lender’s default rate (or standard variable rate).

This mortgage rate gives you the security of knowing exactly what your monthly payment will be , helping you to budget; but if interest rates were to fall, you won’t benefit from it and this is a clear disadvantage.

Recommendation: you should look into a new mortgage deal a couple of months before it ends or you’ll be automatically moved onto your lender’s standard variable rate which is usually unpredictable and with a higher rate.

Standard variable rate (SVR) mortgage

This is not usually a stand-alone mortgage, but more of a second step once the introductory fixed, tracker or discounted deal expires.
It is what you could call a mortgage out of a deal period, and it is usually the most expensive option: make sure to have some savings available so that you can afford an increase in your payments if rates were to rise.

Each lender is free to set their own rate and update the conditions whenever they desire.

Discounted rate mortgage

This is a type of variable rate, over a predefined period of time, during which you get a fixed percentage discount on the SVR of the lender.

This kind of mortgage deal usually lasts between two to five years.

Note that the saving you make on a discount mortgage only applies to the interest that you pay – not on the principal. If your interest rate rises, your monthly payments will rise as well – but you would be paying more interest, rather than repaying more of the money you’ve borrowed.

Recommendation: Always check the discount in comparison to the SVR rate as some lenders can advertise a bigger discount based on a much higher SVR

Example

  • Lender A advertises a 2% discount off an SVR of 6.5% (so you’ll pay 4.5%)
  • Lender B advertises a 1.5% discount off an SVR of 5.5 % (so you’ll pay 4%)

Tracker mortgages

It is a type of variable rate: the rate is based on another interest rate – normally the Bank of England’s base rate plus a predetermined percentage.

The base rate is currently at a record low (after two emergency cuts in March 2020 due to the coronavirus outbreak) of just 0.1% so, if the base rate is +1%, the interest rate on a tracker mortgage turns out to be 1.1%. 

This means that you could end up paying a different amount to your lender each month, making it hard to budget ahead. Given that the amount can go either up or down, you may find yourself paying less as well; the risk may be worth taking depending on your attitude and funds availability. Typically such kind of rate is proposed on a deal of 2 to 5 years, but lenders also offer trackers which last for the life of your mortgage or until you switch to another deal.

Capped rate mortgage

These aren’t common these days, as it is the only rate type (other than the fixed rates) to give you payment security. It is a variable mortgage, but with a cap on how high the interest rate can get. 

Be warned though that the cap tends to be set quite high, it is generally higher than other variable and fixed rates; and your lender can change the SVR at any time up to the level of the cap, on the other hand, the rate will fall if the SVR comes down.

Flexible mortgage

This type of mortgage allows you to make overpayments and underpayments (pay more or less than the monthly amount you agreed with your lender) and if needed take a payment holiday to suit your financial situation. This flexibility has a cost and often results in a higher interest rate. There are different types of flexible mortgages – for example an offset mortgage:

Offset mortgage

The Offset mortgage works by linking your current account savings to your mortgage, so that you pay interest only on the difference. 

Say you’ve got £30,000 in your savings account, and £120,000 left to pay on your mortgage. With an offset mortgage, you only need to pay interest on (£120,000 – £30,000 =) £90,000 of your mortgage.

You still make your monthly payments towards your mortgage, but your savings act as an overpayment which helps to clear your mortgage early.

Note that a mortgage might be the most conventional way of funding for Real Estate investors but it is not the only available form of out there, instead, the following options are to be explored as well, prior securing a loan:

Private Money Loans

Private money lenders are individuals who have extra money and are seeking a good return on investment (ROI) for their money. 

Private money lenders can be within your personal circle of friends, family, neighbors, or in your wider network of connections. These loans for investment properties are great for investors who were turned down by banks. They obviously come with fewer formalities, they don’t involve strict conditions, interest rates are usually lower, and the length of the loan more flexible and typically negotiable due to the close relationship between the investor and the lender. 

The loan is usually secured by a  promissory note or the existing mortgage on the income property. 

Hard Money Loans 

The advantage of these types of loans for investment properties is that they are faster to obtain than conventional mortgage loans as hard money lenders solely assess the worth of the expected financial gain for the prospected property to determine whether or not or to not grant the loan: they don’t look at the Real Estate investor’s credit score.

This type of loan still requires a list of formalities such as documentation, and guarantees. Something to keep in mind when considering hard money lenders is that these are short-term (up to only 36 months!) and they charge higher interest rates (up to 10% higher than conventional mortgages).

Therefore, if you are looking for a loan with the purpose of funding any type of income property, hard money is not appropriate: instead, it would be better suited for buying cheap investment properties, renovate them, and sell them quickly for a profit and pay off the loan in due time (the fix-and-flip strategy). On the other hand, it is quite impossible to pay off a hard money loan on a long-term residential investment property in 3 years.

Fix-and-Flip Loans 

If your investment strategy is to profit in a bulk from your investment by re-selling an upgraded property instead of running after monthly rent, then this is called flipping and a fix-and-flip loan is the most appropriate financing option for you.


It is a type of hard money loan– therefore, they’re secured by the investment property. 

These loans are short-term loans that allow a Real Estate investor to renovate the investment property and put it back on the market as quickly as possible. 


Note that Real Estate crowdfunding platforms offer those kinds of loans as well.

The After Repair Value (ARV) determines if property investors can apply for fix-and-flip loans,  as lenders’ primary focus is on the income property’s profitability besides the standard credit score and income. The downside is that this kind of loan isn’t cheap and can go as high as 18% for terms of repayment under less than a year.

In 2019, the average gross return on house flipping was evaluated to be 39.9%, meaning that the average house-flipper earned $3,990 for every $10,000 invested.

Instead, the average return on rental properties in the same period was 15%, meaning that the buyer of a $500,000 Real Estate property earned $75,000 in one single year!

Just to put back those numbers in context, the average stock ROI over the past 50 years was on average of 8% while, over the last 30 years, the average investor’s return on mutual funds was of 4.5%.

The Lender’s due-diligence

Ultimately, lenders are lending you funds as an investment, and they will be your partner in the deal until they are being paid back in full with interest. That is the reason lenders will ask to get a maximum of details about the Real Estate Investing Strategies you want to use, the property location, its size, price, and purpose; also, they will need to assess your creditworthiness (whether you can actually afford it).

You could consider obtaining a mortgage loan from lenders based in other EU countries; but you have to keep in mind that your country of residence, where you work, and the location of the property may influence how your application will be assessed by the lender.

How will the lender assess your creditworthiness

The assessment will be based on two criteria:

  1. Your personal financial stability and reliability:

You will be required to transparently present and disclose your income, assets, debts etc.

As the lender is investing in your project until full repayment of the debt, he will want to be certain you will be able to repay the loan.

  1. The value of the property you are securing the loan towards.

When you’re considering your mortgage options, you will have to consider both what the property is and what you’ll be using it for.

Always keep in mind that the chosen Real Estate Investing Strategies will impact the amount you can borrow and the terms of the loan.

Lenders frequently refuse to grant mortgages for properties located in other countries, or if the applicant’s place of residence or source of income is not in the country where the bank is located. However, they are not allowed to discriminate between EU citizens solely on the basis of nationality – so as long as you are a European citizen, you are allowed to apply for a mortgage in any country within the Union.

In the second part  of this article, we will explore the pros and cons of the various Real Estate Investing Strategies you should consider.